MICROFINANCE PAPER WRAP-UP: The Global Financial Crisis and Indian Microfinance by Amit Garg and Diana Lewin

Written by Amit Garg and Diana Lewin; published in August 2009; MicroSave India Focus Note 23. http://www.microfinancegateway.org/gm/document-1.9.37780/The%20Global%20Financial%20Crisis%20and%20Indian%20Microfinance.pdf

This note analyzes the impacts of the financial crisis on the Indian microfinance sector. The authors focus especially on the microfinance institution (MFI) Sonata Finance Pvt. Ltd. and Dia Vikas Capital Pvt. Ltd. (Dia), a microfinance investor. The authors then provide several recommendations for MFIs on how to cope with the effects of the crisis.

The authors first argue that due to the financial recession, Sonata found it extremely difficult to raise the necessary funding for growth, which caused a delay in providing loans to its clients. Consequently, the organization was forced to reduce operation costs by 71 percent, downscale its financial projections and growth strategy, and manage its shortage of funds by prioritizing loans to existing clients over first-time loans to new clients in order to maintain good repayment rates. Furthermore, Dia, an investor in the microfinance sector, has responded to the financial crisis and its impacts on MFIs by lobbying to banks and encouraging them to provide funds to start-up MFIs. In addition, it has begun to provide both short-term loans and subordinated debt to its partners, in order to increase their leverage and allow them to grow into attractive candidates for loans from mainstream financial institutions.

Having studied how Sonata and Dia have reacted to the crisis, the authors recommend various coping strategies for Indian MFIs during this economic downturn. According to them, MFIs ought to consider reworking their capital and financial management by diversifying their debt sources. They should take out loans from both private and public banks, and increase equity to reduce risk to shocks. The authors state that Indian MFIs tend to be characterized by high leverage and debt obligations in times of economic crisis. Therefore they ought to turn to equity to cushion their losses and risk of default. They are also recommended to reduce refinancing risk, the possibility that new funding sources will either be hard or costly to obtain as old sources mature, by increasing the terms of loans. This way, the loans will not mature during times of crisis. The cost of this strategy, however, is that when the market is down, the MFI may face higher costs than competitors. Finally, Indian MFIs must improve their asset-liability management practices by reorganizing their cash inflows and outflows, and negotiate with bankers on time to ensure funding availability.

More generally, based on their research, the authors also recommend that organizations emphasize improving sustainability, measuring growth, strengthening the governance of their MFI, and reducing operation costs through efficient systems and technology.

The authors conclude that these MFIs, that previously enjoyed high sustained growth and what seemed to be unlimited fund availability, now face an unfamiliar situation of finite sources of funding and growth stagnancy. Therefore, they argue that in order to survive this crisis, Indian MFIs must emphasize diversification and quality of products, management and governance, and a stronger system for future sustained growth.

By Radhika Chandrasekhar, Research Assistant

Similar Posts: